Earnings Working Against Hovnanian Enterprises, Inc.'s (NYSE:HOV) Share Price Following 26% Dive

Unfortunately for some shareholders, the Hovnanian Enterprises, Inc. (NYSE:HOV) share price has dived 26% in the last thirty days, prolonging recent pain. The drop over the last 30 days has capped off a tough year for shareholders, with the share price down 12% in that time.

Even after such a large drop in price, Hovnanian Enterprises may still be sending very bullish signals at the moment with its price-to-earnings (or "P/E") ratio of 3.7x, since almost half of all companies in the United States have P/E ratios greater than 19x and even P/E's higher than 34x are not unusual. However, the P/E might be quite low for a reason and it requires further investigation to determine if it's justified.

With earnings growth that's superior to most other companies of late, Hovnanian Enterprises has been doing relatively well. One possibility is that the P/E is low because investors think this strong earnings performance might be less impressive moving forward. If you like the company, you'd be hoping this isn't the case so that you could potentially pick up some stock while it's out of favour.

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Does Growth Match The Low P/E?

In order to justify its P/E ratio, Hovnanian Enterprises would need to produce anemic growth that's substantially trailing the market.

Taking a look back first, we see that the company grew earnings per share by an impressive 20% last year. Despite this strong recent growth, it's still struggling to catch up as its three-year EPS frustratingly shrank by 58% overall. Accordingly, shareholders would have felt downbeat about the medium-term rates of earnings growth.

Looking ahead now, EPS is anticipated to slump, contracting by 13% during the coming year according to the one analyst following the company. Meanwhile, the broader market is forecast to expand by 15%, which paints a poor picture.

In light of this, it's understandable that Hovnanian Enterprises' P/E would sit below the majority of other companies. Nonetheless, there's no guarantee the P/E has reached a floor yet with earnings going in reverse. There's potential for the P/E to fall to even lower levels if the company doesn't improve its profitability.

The Key Takeaway

Shares in Hovnanian Enterprises have plummeted and its P/E is now low enough to touch the ground. We'd say the price-to-earnings ratio's power isn't primarily as a valuation instrument but rather to gauge current investor sentiment and future expectations.

We've established that Hovnanian Enterprises maintains its low P/E on the weakness of its forecast for sliding earnings, as expected. At this stage investors feel the potential for an improvement in earnings isn't great enough to justify a higher P/E ratio. It's hard to see the share price rising strongly in the near future under these circumstances.

It's always necessary to consider the ever-present spectre of investment risk. We've identified 2 warning signs with Hovnanian Enterprises (at least 1 which shouldn't be ignored), and understanding them should be part of your investment process.

If these risks are making you reconsider your opinion on Hovnanian Enterprises, explore our interactive list of high quality stocks to get an idea of what else is out there.

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This article by Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Simply Wall St has no position in any stocks mentioned.